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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the fiscal year ended December 31, 2004
Commission file number 0-25983
FIRST MANITOWOC BANCORP, INC.
(Exact Name of Registrant as Specified in Its Charter)
Wisconsin 39-1435359
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
402 North Eighth Street
Manitowoc, Wisconsin 54221-0010
(Address of principal executive offices) (Zip Code)
(920) 684-6611
(Registrant's telephone number, including area code)
SECURITIES REGISTERED UNDER SECTION 12(b) OF THE ACT:
None
SECURITIES REGISTERED UNDER SECTION 12(g) OF THE ACT:
Common Stock, Par Value $1.00
(Title of Class)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [x] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendments to
this Form 10-K. [ x ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2).
Yes [x] No [ ]
The aggregate market value of registrant's common stock, par value $1.00 per
share, held by non-affiliates (excludes a total of 1,461,000 shares reported as
beneficially owned by directors and executive officers or held in the
registrant's profit sharing 401(k) plan; does not constitute an admission as to
affiliate status), as of June 30, 2004, was approximately $84,882,154
As of February 28, 2005, 6,937,268 shares of registrant's common stock, par
value $1.00 per share were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of First Manitowoc Bancorp, Inc.'s Definitive Proxy Statement for
the 2005 Annual Meeting of Shareholders are incorporated by reference into
Part III of this Form 10-K.
2004 FORM 10-K TABLE OF CONTENTS
DESCRIPTION PAGE NO.
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PART I
ITEM 1. BUSINESS 1
ITEM 2. PROPERTIES 13
ITEM 3. LEGAL PROCEEDINGS 13
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 13
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND
RELATED SHAREHOLDER MATTERS 14
ITEM 6. SELECTED FINANCIAL DATA 16
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS 18
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 33
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 36
ITEM 9. CHANGES AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE 67
ITEM 9A. CONTROLS AND PROCEDURES 67
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT 67
ITEM 11. EXECUTIVE COMPENSATION 67
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
AND RELATED SHAREHOLDERS MATTERS 67
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS 68
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES 68
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K 68
SIGNATURES
PART I
FORWARD-LOOKING STATEMENTS
Statements made in this Report on Form 10-K and in documents that are
incorporated by reference which are not purely historical are forward-looking
statements, as defined in the Private Securities Litigation Reform Act of 1995,
including any statements regarding descriptions of management's plans,
objectives, or goals for future operations, products or services, and forecasts
of its revenues, earnings, or other measures of performance. Forward-looking
statements are based on current management expectations and, by their nature,
are subject to risks and uncertainties. These statements may be identified by
the use of words such as believe, expect, anticipate, plan, estimate, should,
will, intend, or similar expressions.
Shareholders should note that many factors, some of which are discussed
elsewhere in this document and in the documents that are incorporated by
reference, could affect the future financial results of First Manitowoc Bancorp,
Inc. (the "Corporation") and could cause those results to differ materially from
those expressed in forward-looking statements contained or incorporated by
reference in this document. These factors, many of which are beyond the
Corporation's control, include, but are not limited to:
- General economic conditions, either nationally or the state in which the
Corporation does business;
- Legislation or regulatory changes which adversely affect the businesses in
which the Corporation is engaged;
- Changes in the interest rate environment which increase or decrease
interest rate margins;
- Changes in securities markets with respect to the market value of
financial assets and the level of volatility in certain markets such as
foreign exchange;
- Significant increases in competition in the banking and financial services
industry resulting from industry consolidation, regulatory changes and
other factors, as well as actions taken by particular competitors;
- Changes in consumer spending, borrowing and savings habits;
- Technological changes;
- Acquisitions and unanticipated occurrences which delay or reduce the
expected benefits of acquisitions;
- The Corporation's ability to increase market share and control expenses;
- The effect of compliance with legislation or regulatory changes;
- The effect of changes in accounting policies and practices;
- The costs and effects of unanticipated litigation and of unexpected or
adverse outcomes in such litigation; and
- The factors discussed in Item 1 in this report and in the Management's
Discussion and Analysis in Item 7, as well as those discussed elsewhere in
this report and the documents incorporated herein by reference.
All forward-looking statements contained in this report are based upon
information presently available and the Corporation assumes no obligation to
update any forward-looking statements.
ITEM 1. BUSINESS
GENERAL
First Manitowoc Bancorp, Inc. is a Wisconsin corporation and registered bank
holding company. The Corporation engages in its business through its sole
subsidiary, First National Bank in Manitowoc (the "Bank"), a national banking
association. The Bank has a wholly owned investment subsidiary, FNBM Investment
Corp. and a wholly-owned insurance subsidiary, Insurance Center of Manitowoc,
Inc. ("ICM"). Insurance Center of Manitowoc, Inc. also operates an office known
as Gary Vincent and Associates in Green Bay, Wisconsin. Effective January 26,
2005, ICM's board of directors approved a name change to "The Vincent Group,
Inc." The Insurance Center is an independent agency offering commercial,
personal, life and health insurance.
The Corporation acquired the Bank through the merger of the Bank into an interim
national banking association formed as a Corporation subsidiary for the purpose
of the merger, pursuant to a Plan of Reorganization and Agreement to Merge (the
"Plan") proposed by Bank management and approved by the Bank's shareholders in
1982. Pursuant to the Plan, each outstanding share of Bank common stock was
exchanged for three shares of the Corporation's common stock. The Bank's charter
was not affected by the merger. Currently, the Corporation has outstanding
6,937,268 shares of common stock, par value $1.00 per share ("Shares"). Shares
were held by 665 holders of record on February 28, 2005.
As of December 31, 2004, the Corporation had assets of approximately $622.2
million, net loans of approximately $382.7 million, and deposits of $445.8
million. For additional financial information, see the Consolidated Financial
Statements and Notes beginning at Item 8 of this Form 10-K.
The Corporation's and the Bank's main office is located at 402 North Eighth
Street, Manitowoc, Wisconsin. The Bank has thirteen full service branch offices
located in Francis Creek, St. Nazianz, Two Rivers, Mishicot, Manitowoc, Kiel,
Newton, New Holstein, Plymouth, Bellevue, and Ashwaubenon, Wisconsin. The
Corporation's home page on the Internet is www.bankfirstnational.com. The
Corporation's web site content is for information purposes only, and it should
not be relied upon for investment purposes, nor is it incorporated by reference
into this Form 10-K.
Throughout this Form 10-K information from parts of other documents filed with
the Securities and Exchange Commission ("SEC") is incorporated by reference. The
SEC allows us to disclose important information by referring to it in this
manner, and you should review this information.
We make our annual report on Form 10-K, quarterly reports on Form 10-Q, current
reports on Form 8-K and proxy statement for our annual shareholders' meeting, as
well as any amendments to those reports filed pursuant to Section 13(a) or 15(d)
of the Securities Exchange Act of 1934, as amended, available free of charge
through our web site as soon as reasonably practicable after we electronically
file such material with, or furnish it to, the SEC. Our SEC reports can be
accessed through the "Investor Relations, SEC web site" link of our web site.
The SEC also maintains a web site at www.sec.gov that contains reports, proxy
statements and other information regarding SEC registrants.
STATEMENT ON CORPORATE GOVERNANCE
We have reviewed the provisions of the Sarbanes-Oxley Act of 2002 and the SEC
rules regarding corporate governance policies and processes and are in
compliance with the rules and listing standards. We have adopted a Code of
Business Conduct and Ethics which is applicable to all of our directors,
officers and employees. You can access our Nominating Committee Charter, Audit
Committee Charter and Code of Business Conduct and Ethics on our Website at
http://www.bankfirstnational.com or by writing to us at 402 North Eighth Street,
Manitowoc, Wisconsin 54221 Attention: Rachel Wiegert, Secretary.
BUSINESS STRATEGY
The Bank's strategy is to provide high quality financial products and services
to individuals, businesses, and governmental entities. The Bank employs a
well-trained, qualified staff and maximizes automation to provide fast,
efficient, convenient delivery of its products and services.
BANKING PRODUCTS AND SERVICES
The Bank has been doing business in Wisconsin since 1894 and is engaged in both
the commercial and consumer banking business. The Bank provides a wide range of
personal banking services designed to meet the needs of local consumers. As a
convenience to its customers, the Bank offers Saturday banking hours; drive-thru
teller windows; "Telebanc," a telephone banking service; and 24-hour automated
teller machines. Additionally, the Bank offers an Internet web site, which
includes on-line banking, bill payment, e-mail statements, account transfers,
check ordering, and check copies among other services. Services provided include
checking accounts, savings and time accounts, and safe deposit boxes.
The Bank makes loans in the following categories: Commercial and Agricultural
loans, Commercial Real Estate, Residential Real Estate, and Consumer and Other
loans.
COMMERCIAL AND AGRICULTURAL BUSINESS LENDING
As of December 31, 2004, commercial and agricultural business loans accounted
for approximately 30.05% of the Bank's gross loans. These loans may take the
form of lines of credit, single payment loans, or term payment loans, and may be
secured or unsecured depending on the creditworthiness of the borrower. The Bank
operates under a commercial business lending policy that establishes guidelines
for management in making commercial lending decisions. Among these guidelines
are the purpose of the loan, the source of repayment, and an alternate source of
repayment (generally in the form of collateral or guarantee). Applications for
commercial and agricultural business loans are accepted at the Bank's main and
branch offices. It is the Bank's general policy to restrict its commercial and
agricultural business lending to a market area defined as within a 100-mile
radius of any office location where business banking products and services are
sold.
Commercial and agricultural business loans are generally made for business
expansion or ongoing business needs. The purpose of commercial and agricultural
business loans can include the purchase of equipment or the provision of
operating capital for the financing of accounts receivable and inventory.
Commercial business loans are not generally made for the purpose of acquiring
real estate, although real estate may occasionally be accepted as incidental
collateral on a loan made for another business purpose. Agricultural business
loans, however, may include loans for farmland, including a farm residence and
other improvements.
Credit risk is controlled and monitored through active asset quality management
and the use of lending standards, thorough review of potential borrowers, and
active asset quality administration. Active asset quality administration,
including early problem loan identification and timely resolution of problems,
further ensures appropriate management of credit risk and minimization of loan
losses.
The Bank occasionally participates in commercial business loans originated by
third-party financial institutions. The Corporation, however, does not generally
service such loans.
The Bank believes that the higher yields earned on commercial business loans
compensate for the increased risk associated with such loans and that commercial
business loans are important to the Bank's efforts to increase the interest rate
sensitivity and shorten the average maturity of its loan portfolio.
COMMERCIAL REAL ESTATE LENDING
Non-residential real estate loans accounted for approximately 28.71% of the
Bank's gross loans as of December 31, 2004. Such loans are subject to the
general policies and procedures outlined in "Commercial Business Lending",
below. It is the Bank's general policy to restrict its commercial real estate
lending to loans secured by properties located within a 100-mile radius of
Manitowoc. There are no policy restrictions on the amount of loan funds secured
by types of property or collateral.
Applications for commercial real estate loans are generally obtained from
existing borrowers, direct contacts by loan officers, and referrals. In general,
these loans have amortization periods ranging from 10 to 25 years, mature in
five years or less, and have interest rates which are fixed or variable.
Loan-to-value ratios on the Bank's commercial real estate loans follow OCC
requirements. It is also the Bank's general policy to obtain personal guarantees
on its commercial real estate loans and, when such guarantees cannot be
obtained, to impose more stringent loan-to-value ratios, debt coverage ratios,
and other underwriting requirements.
From time-to-time the Bank originates loans to construct multi-family
residential and non-residential real estate properties. Construction loans are
generally considered to involve a higher degree of risk than mortgage loans on
completed properties. The Bank's risk of loss on a construction loan is
dependent largely upon the accuracy of the initial estimate of the property's
value at completion of construction, the reputation of the contractor, the
estimated cost of construction, and the borrower's ability to advance additional
construction funds if such should become necessary.
Commercial real estate lending is generally considered to involve a higher level
of risk than single-family residential lending. This is due to the concentration
of principal in a limited number of loans and borrowers, and the effects of
general economic conditions on real estate developers and managers and on income
producing properties. In addition, loans secured by properties located outside
of the Corporation's immediate market area may involve a higher degree of risk.
This is because the Bank may not be as familiar with market conditions and other
relevant factors as it would be in the case of loans secured by properties
located within its market areas. The Bank does not have a material concentration
of commercial real estate loans outside of its immediate market area.
RESIDENTIAL REAL ESTATE LENDING
Single-family residential loans accounted for approximately 36.12% of the Bank's
gross loans as of December 31, 2004. Applications for single-family residential
loans are accepted by qualified lenders at all offices except the Plymouth West
office and the Expo Drive office. The Bank makes predominantly fixed-rate loans
for terms ranging from ten to thirty years, but does also make loans that
provide for periodic adjustments of the interest rate ("adjustable rate loans").
In general, the Bank looks to sell to the secondary market but will do an in
house loan on occasion.
Although the Corporation generally does not retain residential loans in its
portfolio, it continues to originate and service residential loans in order to
provide a full range of products to its customers. In general, such loans are
originated only under terms, conditions, and documentation standards that make
such loans eligible for sale to the Federal National Mortgage Association
("Fannie Mae" or "FNMA"). Sales or securitizations of mortgage loans through
Fannie Mae have generally been under terms that do not provide for any recourse
against the Bank by the investor. The Bank generally sells these loans at the
time they are originated, but continues to service these loans for its
customers. Sales of mortgage loans provide additional funds for lending and
other business purposes.
The Bank's general policy is to lend up to 80% of the independently appraised
value of the property (referred to as the "loan-to-value ratio"). The Bank will
occasionally lend in excess of an 80% loan-to-value ratio on a first mortgage
loan, but will generally require the borrower to obtain private mortgage
insurance on the portion of the loan that exceeds 80%.
The Bank also originates loans to individuals to construct single-family
residences. The borrower must have take-out commitments for permanent financing
on hand at the time of origination. Construction loans generally have a maturity
of 6 to 12 months and a fixed rate of interest, with payments being made monthly
on an interest-only basis. Construction loans are otherwise underwritten and
approved in the same manner as other single-family residential loans.
Construction loans, however, are generally considered to involve a higher degree
of risk than conventional residential mortgage loans. This is because the risk
of loss is largely dependent on the accuracy of the initial estimate of the
property's value at completion of construction, the reputation of the
contractor, the estimated cost of construction, and the borrower's ability to
advance additional construction funds, if necessary. This risk has not had any
adverse effect on the Bank to date, although no assurances can be made with
respect to future periods.
The Bank continues to service most of the loans that it sells to third-party
investors (commonly referred to as "loans serviced for others"). Servicing
mortgage loans, whether for its own portfolio or for others, includes such
functions as collecting monthly principal and interest payments from borrowers,
maintaining escrow accounts for real estate taxes and insurance, and making such
payments on behalf of borrowers when they are due. When necessary, servicing of
mortgage loans also includes functions related to the collection of delinquent
principal and interest payments, loan foreclosure proceedings, and disposition
of foreclosed real estate. As of December 31, 2004, loans serviced for others
were $181.3 million. The amount of capitalized mortgage servicing rights as of
December 31, 2004 was $1.8 million.
When the Bank services loans for others, it is compensated for these services
through the retention of a servicing fee from borrowers' monthly payments. The
Bank pays the third-party investors an agreed-upon yield on the loans, which is
generally less than the interest agreed to be paid by the borrowers. The
difference is retained by the Bank and recognized as servicing fee income over
the lives of the loans, net of amortization of capitalized mortgage servicing
rights. The Bank also receives fees and interest income from ancillary sources
such as delinquency charges and float on escrow and other funds.
Management believes that servicing mortgage loans for third parties provides a
natural hedge against other risks inherent in the Bank's mortgage banking
operations. That is, fluctuations in volumes of mortgage loan originations and
resulting gains on sales of such loans caused by changes in market interest
rates will generally be offset in part by an opposite change in loan servicing
fee income. These fluctuations are usually the result of actual loan prepayment
activity that is different from that which was anticipated when the related
servicing rights were originally recorded. However, fluctuations in the value of
mortgage servicing rights may also be caused by lower of cost or market
adjustments under generally accepted accounting principles ("GAAP"). That is,
the value of servicing rights may fluctuate because of changes in the future
prepayment assumptions or discount rates used to periodically value servicing
rights. Although management believes that most of the Bank's loans that prepay
are replaced by a new loan to the same customer or even a different customer
(thus preserving the future servicing cash flow), GAAP requires mark-to-market
gains or losses resulting from a change in future prepayment assumptions to be
recorded in the period in which the change occurs. However, the offsetting gain
on the sale of the new loan, if any, cannot be recorded under GAAP until the
customer actually prepays the old loan and the new loan is sold in the secondary
market. Mortgage servicing rights are particularly susceptible to unfavorable
mark-to-market adjustments during periods of declining interest rates during
which prepayment activity typically accelerates to levels above that which had
been anticipated when the servicing rights were originally recorded. During
periods of rising rates, mark-to-market adjustments tend to result in gains to
the value of servicing rights as the assumption is adjusted to reflect a
deceleration in payments.
CONSUMER AND OTHER LENDING
The Bank offers consumer and other loans in order to provide a full range of
financial services to its customers. Such loans accounted for approximately
5.12% of the Corporation's gross loans as of December 31, 2004. Most of the
Bank's consumer loan portfolio consists of second mortgage loans and home equity
lines of credit, but also includes automobile loans, recreational vehicle and
mobile home loans, deposit account secured loans, and unsecured lines of credit
or signature loans. The Bank services all of its own consumer loans.
Applications for consumer loans are taken at all of the Bank's offices except
the Expo Drive office. Applications for automobile loans are also accepted
through relationships established with a limited number of qualifying automobile
dealerships ("indirect automobile lending"). The majority of consumer loans are
underwritten, approved, and serviced on an on-going basis by loan officers.
Consumer loans generally have shorter terms and higher rates of interest than
conventional mortgage loans, but typically involve more credit risk than such
loans because of the nature of the collateral and, in some instances, the
absence of collateral. In general, consumer loans are more dependent upon the
borrower's continuing financial stability, are more likely to be affected by
adverse personal circumstances, and are often secured by rapidly depreciating
personal property such as automobiles. In addition, various laws, including
bankruptcy and insolvency laws, may limit the amount that may be recovered from
a borrower. However, such risks are mitigated to some extent in the case of
second mortgage loans and home-equity lines of credit. These types of loans are
secured in part or in full by a second mortgage on the borrower's residence.
The Bank believes that the higher yields earned on consumer loans compensate for
the increased risk associated with such loans and that consumer loans are
important to the Bank's efforts to increase the interest rate sensitivity and
shorten the average maturity of its loan portfolio. Furthermore, the Bank's net
charge-offs on consumer loans as a percentage of gross loans have not been
significant in recent years, despite the risks inherent in consumer lending.
In conjunction with its consumer lending activities, the Corporation offers
customers credit life and disability insurance products. The Bank and its loan
officers receive commission revenue related to the sales of these products. In
addition, a wholly-owned subsidiary of the Bank receives premium revenue in
exchange for the portion of the insurance risk it has reinsured on these sales.
Refer to "Subsidiaries", below, for additional discussion.
The Bank offers a full range of trust services that include trust under
agreement, testamentary trust, guardianships and conservatorships, probate
estates, estate planning, and financial planning. The Bank employs a licensed
investment representative who provides a variety of investment and insurance
products through arrangements with other service providers. These products
include mutual funds, stocks, bonds, annuities, and life insurance products.
Insurance products, including commercial, personal, life, and health insurance,
are offered through Insurance Center of Manitowoc, Inc. Effective January 26,
2005, Insurance Center's board of directors approved a name change to "The
Vincent Group, Inc."
To attract new business and retain existing customers, the Bank relies on local
marketing promotions, personal contact by its officers, staff and directors,
referrals by current customers, extended banking hours, personalized service,
and contact with on-line customers via the Bank's website or e-mail statements.
NON-PERFORMING AND OTHER CLASSIFIED ASSETS
Loans are generally placed on non-accrual status and considered "non-performing"
when, in the judgment of management, the probability of collection of principal
or interest is deemed to be insufficient to warrant further accrual of interest.
When a loan is placed on non-accrual and/or non-performing status, previously
accrued but unpaid interest is deducted from interest income. In general, the
Bank does not record accrued interest on loans 90 or more days past due. For
additional information, refer to Part II, Item 7, "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and Notes 1 and 3 of
the Corporation's Audited Consolidated Financial Statements, included herein
under Part II, Item 8, "Financial Statements and Supplementary Data".
When a loan is placed on non-accrual and/or non-performing status, the Bank
generally institutes foreclosure or other collection proceedings. Real estate
acquired by the Bank as a result of foreclosure or deed-in-lieu of foreclosure
is classified as "other real estate" and is considered "non-performing" until
sold. Other property acquired through adverse judgment, such as automobiles and
other depreciable assets, are generally classified as "other personal property".
The Bank has internal policies and procedures in place to evaluate risk ratings
on all loans. In addition, in connection with examinations of banks, federal
examiners have authority to classify problem assets as "Substandard",
"Doubtful", or "Loss". An asset is classified as "Substandard" if it is
determined to involve a distinct possibility that the Bank could sustain some
loss if deficiencies associated with the loan are not corrected. An asset is
classified as "Doubtful" if full collection is highly questionable or
improbable. An asset is classified as "Loss" if it is considered uncollectible,
even if a partial recovery could be expected in the future. If an asset or
portion thereof is classified as "Loss", the Bank must either establish a
specific allowance for the portion of the asset classified as "Loss", or charge
off such amount. Refer to Part II, Item 7, "Management's Discussion and Analysis
of Financial Condition and Results of Operations," for additional discussion.
ALLOWANCES FOR LOSSES ON LOANS AND REAL ESTATE
The Bank's policy is to establish allowances for estimated losses on specific
loans and real estate when it determines that losses are probable and estimable.
In addition, the Corporation maintains a general loss allowance against its loan
and real estate portfolios that is based on its own loss experience,
management's ongoing assessment of current economic conditions, the credit risk
inherent in the portfolios, and the experience of the financial services
industry. For additional information, refer to Part II, Item 7, "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
Notes 1 and 3 of the Corporation's Audited Consolidated Financial Statements,
included herein under Part II, Item 8, "Financial Statements and Supplementary
Data".
Management of the Bank believes that the current allowances established by the
Bank are adequate to cover probable and estimable losses in the Bank's loan and
real estate portfolios. However, future adjustments to these allowances may be
necessary and the Bank's results of operations could be adversely affected if
circumstances differ substantially from the assumptions used by management in
making its determinations in this regard.
SOURCES OF FUNDS
DEPOSIT LIABILITIES
The Bank's current deposit products include regular savings accounts, checking
accounts, money market deposit accounts, individual retirement accounts, and
certificates of deposit ranging in terms from three months to five years. As of
December 31, 2004, deposit liabilities accounted for approximately 71.6% of the
Corporation's total liabilities and equity.
In addition to serving as the Bank's primary source of funds, deposit
liabilities (especially checking accounts) are a substantial source of
non-interest income. This income is generally received in the form of overdraft
fees, periodic service charges, automated teller machine ("ATM") and debit card
fees, and other transaction charges. The Bank's extensive branch network also
creates opportunities for sales of non-deposit products such as tax-deferred
annuities, mutual funds, and other investment products. In exchange for these
sales, the Bank receives commission revenue from the third-party providers of
the financial products and/or services.
The principal methods used by the Bank to attract deposit accounts include
offering a variety of products and services, competitive interest rates, and
convenient office locations and hours. All of the Bank's offices have drive-up
facilities and the Bank owns twelve ATM machines, all of which are located in
the Bank's primary markets. Depositors may also obtain a debit card from the
Bank, which allows them to purchase goods and services directly from merchants.
The same debit card also provides access to the ATM network.
FEDERAL HOME LOAN BANK ADVANCES
The Bank obtains advances from the FHLB secured by certain of its home mortgage
loans and mortgage-related securities, as well as stock in the FHLB, a minimum
amount of which the Bank is required to own. Such advances may be made pursuant
to several different credit programs, each with its own interest rate and range
of maturity dates. As of December 31, 2004, FHLB advances accounted for
approximately 6.4% of the Bank's total liabilities and equity.
SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
The Bank regularly enters into sales of securities under agreements to
repurchase. In form, these transactions are an arrangement in which the sale of
securities is accompanied by a simultaneous agreement to repurchase the
identical securities (or substantially the same securities) at a future date. In
substance, however, these arrangements are borrowings secured by high-quality,
highly-liquid securities such as Fannie Mae or Freddie Mac Mortgage Backed
Securities. Accordingly, these arrangements are accounted for as borrowings in
the Bank's financial statements.
FEDERAL FUNDS PURCHASED AND OTHER BORROWINGS
The Corporation has lines of credit with three financial institutions. These
lines, which amount to $25 million in the aggregate, permit the overnight
purchase of federal funds. As of December 31, 2004, there were no outstanding
borrowings against these lines of credit.
BANK SUBSIDIARY CORPORATIONS
FNBM Investment Corporation. FNBM Investment Corporation ("FNBM") was
incorporated in the State of Nevada in December 1993. FNBM is located in Las
Vegas, Nevada. The Bank owns 100% of the outstanding common stock of FNBM. FNBM
was formed to consolidate and improve the efficiency, management, safekeeping,
and operations of the Bank's investment securities portfolio and certain other
holdings.
Insurance Center of Manitowoc, Inc. Insurance Center of Manitowoc, Inc. ("ICM")
was incorporated in the State of Wisconsin in 1932. Bank acquired 100% of the
outstanding common stock of the ICM in January 2001. ICM has an office in
Manitowoc, Wisconsin that operates under the trade name Insurance Center of
Manitowoc, Inc. and an office in Green Bay, Wisconsin that operates under the
trade name Gary Vincent & Associates, Inc. ICM is a regional independent agency
offering commercial, personal, life, and health insurance. ICM provides various
bank-related insurance coverages for the Bank including Directors & Officers
Liability, Trust, and Blanket Bond.
In April of 2004, Professional Insurance Advantage, Incorporated joined Gary
Vincent & Associates. This Green Bay agency consisting of three employees offers
group and individual life, health, dental, vision, disability, long-term care,
401(k) retirement plans, and investment services in addition to property and
casualty insurance.
Effective January 26, 2005, ICM's board of directors approved a name change to
The Vincent Group, Inc.
United Financial Services, Inc. United Financial Services, Inc. ("UFS") was
incorporated in the State of Wisconsin in September 1991. UFS is located in
Grafton, Wisconsin. The Bank owns 49.8% of the outstanding common stock of UFS.
The subsidiary, UFS, was formed to provide data processing services to the
banking industry. UFS provides data processing services to owner banks Baylake
Bank and the Bank in addition to 52 other banks located in Wisconsin. The Bank's
investment in UFS is accounted for under the equity method.
SEASONALITY
The management of the Bank does not believe that the deposits or business of the
Bank in general are seasonal in nature. The deposits may, however, vary with
local and national economic conditions but not enough to have a material effect
on planning and policy making.
FOREIGN OPERATIONS
The Bank does not engage in operations in foreign countries.
EMPLOYEES
As of February 28, 2005, the Corporation employed 233 individuals, 76 of whom
worked part-time.
COMPETITION
The Bank offers many personalized services and attracts customers by being
responsive and sensitive to the needs of the community. The Bank relies on
goodwill and referrals from satisfied customers as well as traditional media
advertising to
attract new customers. To enhance a positive image in the community, the Bank
supports and participates in many local events, such as the Manitowoc County
Fair, Manitowoc County Airport Day, First National Bank Maritime Bay Bike
Classic, Two Rivers Ethnic Festival, and French Creek Days. Employees, officers,
and directors represent the Bank on many boards and local civic and charitable
organizations.
The primary factors in competing for deposits are interest rates, personalized
services, the quality and range of financial services, convenience of office
locations and office hours. Competition for deposits comes primarily from other
commercial banks, savings associations, credit unions, money market funds and
other investment alternatives. The primary factors in competing for loans are
interest rates, loan origination fees, the quality and range of lending services
and personalized services. Competition for loans comes primarily from other
commercial banks, savings associations, mortgage banking firms, credit unions
and other financial intermediaries. Competition in the Bank's market area is
expected to continue for the foreseeable future.
SUPERVISION AND REGULATION
General. The Corporation and the Bank are extensively regulated under federal
and state law. Generally, these laws and regulations are intended to protect
depositors, not shareholders. The following is a summary description of certain
provisions of certain laws which affect the regulation of bank holding companies
and banks. The discussion is qualified in its entirety by reference to
applicable laws and regulation. Changes in such laws and regulations may have a
material effect on the business and prospects of the Corporation and the Bank.
Federal Bank Holding Company Regulation and Structure. The Corporation is a bank
holding company within the meaning of the Bank Holding Company Act of 1956, as
amended (the "Act"). As such, it is subject to regulation, supervision, and
examination by the Federal Reserve Board ("FRB"). The Corporation is required to
file annual and quarterly reports with the FRB and to provide the FRB with such
additional information as the FRB may require. The FRB may conduct examinations
of the Corporation and its subsidiaries.
With certain limited exceptions, the Corporation is required to obtain prior
approval from the FRB before acquiring direct or indirect ownership or control
of more than 5% of any voting securities or substantially all of the assets of a
bank or bank holding company, or before merging or consolidating with another
bank holding company. Additionally, with certain exceptions, any person
proposing to acquire control through direct or indirect ownership of 25% or more
of any voting securities of the Corporation is required to give 60 days' written
notice of the acquisition to the FRB, which may prohibit the transaction, and to
publish notice to the public.
Generally, a bank holding company may not engage in any activities other than
banking, managing or controlling its bank and other authorized subsidiaries, and
providing services to these subsidiaries. With prior approval of the FRB, the
Corporation may acquire more than 5% of the assets or outstanding shares of a
company engaging in non-bank activities determined by the FRB to be closely
related to the business of banking or of managing or controlling banks. The FRB
provides expedited procedures for expansion into approved categories of non-bank
activities.
Subsidiary banks of a bank holding company are subject to certain quantitative
and qualitative restrictions on extensions of credit to the bank holding company
or its subsidiaries, on investments in their securities and on the use of their
securities as collateral for loans to any borrower. These regulations and
restrictions may limit the Corporation's ability to obtain funds from the Bank
for its cash needs, including funds for the payment of dividends, interest and
operating expenses. Further, subject to certain exceptions, a bank holding
company and its subsidiaries are prohibited from engaging in certain tie-in
arrangements in connection with any extension of credit, lease or sale of
property or furnishing of services. For example, the Bank may not generally
require a customer to obtain other services from itself or the Corporation, and
may not require that a customer promise not to obtain other services from a
competitor as a condition to an extension of credit to the customer.
Under FRB policy, a bank holding company is expected to act as a source of
financial strength to its subsidiary banks and to make capital injections into a
troubled subsidiary bank, and the FRB may charge the bank holding company with
engaging in unsafe and unsound practices for failure to commit resources to a
subsidiary bank when required. A required capital injection may be called for
when the holding company does not have the resources to provide it.
Federal Bank Regulation. The Corporation's banking subsidiary is a
federally-chartered national bank regulated by the Office of Comptroller of
Currency ("OCC"). The OCC may prohibit the institutions over which it has
supervisory authority from engaging in activities or investments that the agency
believes constitutes unsafe or unsound banking practices. Federal banking
regulators have extensive enforcement authority over the institutions they
regulate to prohibit or correct activities which violate law, regulation or a
regulatory agreement or which are deemed to constitute unsafe or unsound
practices. Enforcement actions may include the appointment of a conservator or
receiver, the issuance of a cease and desist order, the termination of deposit
insurance, the imposition of civil money penalties on the institution, its
directors, officers, employees and institution-affiliated parties, the issuance
of directives to increase capital, the issuance of formal and informal
agreements, the removal of or restrictions on directors, officers, employees and
institution-affiliated parties, and the enforcement of any such mechanisms
through restraining orders or other court actions.
The Bank is subject to certain restrictions on extensions of credit to executive
officers, directors, principal shareholders or any related interest of such
persons which generally require that such credit extensions be made on
substantially the same terms as are available to third persons dealing with the
Bank and not involve more than the normal risk of repayment. Other laws tie the
maximum amount which may be loaned to any one customer and its related interests
to capital levels.
Under the Federal Deposit Insurance Corporation Improvement Act of 1991
("FDICIA"), each federal banking agency is required to prescribe, by regulation,
non-capital safety and soundness standards for institutions under its authority.
The federal banking agencies, including the OCC, have adopted standards covering
internal controls, information systems and internal audit systems, loan
documentation, credit underwriting, interest rate exposure, asset growth, and
compensation, fees and benefits. An institution which fails to meet those
standards may be required by the agency to develop a plan acceptable to the
agency, specifying the steps that the institution will take to meet the
standards. Failure to submit or implement such a plan may subject the
institution to regulatory sanctions. The Corporation, on behalf of the Bank,
believes that it meets substantially all standards which have been adopted.
FDICIA also imposed new capital standards on insured depository institutions.
Before establishing new branch offices, the Bank must meet certain minimum
capital stock and surplus requirements and the Bank must obtain OCC approval.
Deposit Insurance. As a FDIC member institution, the Bank's deposits are insured
to a maximum of $100,000 per depositor through the Bank Insurance Fund ("BIF"),
administered by the FDIC. The Bank pays a quarterly deposit insurance premium
assessment to the FDIC. The insurance premium assessment is based upon the
FDIC's risk-based assessment system by which institutions are assigned to one of
three categories based on their capitalization and one of three subcategories
based on examination ratings and other supervisory information. An institution's
assessment rate depends on the "supervisory rating" it receives from the FDIC
("A," "B," or "C") and on their regulatory capital level ("well capitalized,"
"adequately capitalized," or "undercapitalized"). Assessment rates for insured
institutions are determined semiannually by the FDIC and currently range from
zero basis points for the healthiest institutions to 27 basis points for the
riskiest. The FDIC has authority to increase insurance assessments and is
required under federal law to establish assessment rates that will maintain the
insurance fund's ratio of reserves to insured deposits at $1.25 per $100. The
Bank was classified as "well capitalized" at December 31, 2004.
Capital Requirements. The federal banking regulators have adopted certain
risk-based capital guidelines to assist in the assessment of the capital
adequacy of a banking organization's operations for both transactions reported
on the balance sheet as assets and transactions, such as letters of credit,
which are recorded as off balance sheet items. Under these guidelines, nominal
dollar amounts of assets and credit equivalent amounts of off balance sheet
items are multiplied by one of several risk adjustment percentages, which range
from 0% for assets with low credit risk, such as certain U.S. Treasury
securities, to 100% for assets with relatively high credit risk, such as
business loans.
A banking organization's risk-based capital ratios are obtained by dividing its
qualifying capital by its total risk- adjusted assets. The regulators measure
risk-adjusted assets, which include off balance sheet items, against both total
qualifying capital (the sum of Tier 1 capital and limited amounts of Tier 2
capital) and Tier 1 capital. "Tier 1," or core capital, includes common equity,
less goodwill and other intangibles, subject to certain exceptions. "Tier 2," or
supplementary capital, includes the allowance for loan and lease losses, subject
to certain limitations. Banks and bank holding companies subject to the
risk-based capital guidelines are required to maintain a ratio of Tier 1 capital
to risk-weighted assets of at least 4.0% and a ratio of total capital to
risk-weighted assets of at least 8.0%. The appropriate regulatory authority may
set higher capital requirements when particular circumstances warrant. In
addition to risk-based capital, banks and bank holding companies are required to
maintain a minimum amount of Tier 1 capital to total average assets, referred to
as the leverage capital ratio, of at least 4.0%.
Federal banking agencies include in their evaluations of a bank's capital
adequacy, an assessment of the Bank's interest rate risk ("IRR") exposure. The
standards for measuring the adequacy and effectiveness of a banking
organization's interest rate risk management includes a measurement of board of
director and senior management oversight, and a determination of whether a
banking organization's procedures for comprehensive risk management are
appropriate to the circumstances of the specific banking organization. The Bank
has internal IRR models that are used to measure and monitor IRR.
Failure to meet applicable capital guidelines could subject a banking
organization to a variety of enforcement actions, including limitations on its
ability to pay dividends, the issuance by the applicable regulatory authority of
a capital directive to increase capital and, in the case of depository
institutions, the termination of deposit insurance by the FDIC. In addition,
future changes in regulations or practices could further reduce the amount of
capital recognized for purposes of capital adequacy. Such a change could affect
the ability of the Bank to grow and could restrict the amount of profits, if
any, available for the payment of dividends to the Corporation.
Monetary Policy. The earnings of a bank holding company are affected by the
policies of regulatory authorities, including the FRB, in connection with the
FRB's regulation of the money supply. Various methods employed by the FRB are
open market operations in United States Government securities, changes in the
discount rate on member bank borrowings and changes in reserve requirements
against member bank deposits. These methods are used in varying combinations to
influence overall growth and distribution of bank loans, investments and
deposits, and their use may also affect interest rates charged on loans or paid
on deposits. Because of ongoing change in the national economy and in the money
markets, as well as the effect of monetary and fiscal policies of the Federal
Reserve System and Federal government, prediction cannot be made as to future
changes in interest rates, loan demand, deposit levels or the effect on the
earnings of the Corporation.
Federal Taxation. The Corporation is subject to those rules of federal income
taxation generally applicable to corporations under the Internal Revenue Code of
1986, as amended (the "IRC"). The Corporation, the Bank, and the Bank's
wholly-owned subsidiaries file a consolidated federal income tax return. This
has the effect of eliminating or deferring the tax consequences of intercompany
distributions, including dividends, in the computation of consolidated taxable
income. The consolidated entity pays taxes at the federal statutory rate of 34%
of its taxable income, as defined in the IRC.
State Taxation. The State of Wisconsin imposes a tax on the Corporation's
taxable income at the rate of 7.9%. State income taxes are deductible on the
Corporation's federal income tax return. Wisconsin's definition of taxable
income is generally similar to the federal definition, except that interest from
state and municipal obligations is taxable. In Wisconsin, net operating losses
may be carried forward but not back.
FNBM is incorporated in the State of Nevada, which does not currently impose a
corporate income tax. Although the earnings of FNBM are not currently subject to
taxation in the State of Wisconsin, from time-to-time legislation is proposed
which, if adopted, would require consolidated income tax returns for entities
headquartered in the state and result in taxation of FNBM's earnings. To date,
none of these legislative proposals have been adopted. In addition, from
time-to-time the Wisconsin Department of Revenue ("WDR") attempts to impose
income tax on out-of-state investment subsidiaries like FNBM. Indeed, in 2003
the WDR began examinations of a number of financial institutions, including the
Bank, specifically aimed at their relationships with their investment
subsidiaries. Management believes the WDR will take the position that the income
of FNBM is taxable in Wisconsin, and a number of other Wisconsin financial
institutions have entered into settlements with the WDR related to taxation of
the income of their Nevada subsidiaries. Management believes the Bank, as well
as FNBM, have complied with the tax rules relating to the income of out-of-state
subsidiaries. The WDR has indicated that it may repudiate these rulings and
management believes it is more likely than not that the WDR exam will result in
an assessment. The Bank and FNBM have held productive discussions with the WDR
and while no final agreement has been reached, believe there is a strong
likelihood of settlement. If no settlement is reached, the Bank will probably
oppose an assessment, if any.
Anti-Terrorism Act. On October 6, 2002, the Uniting and Strengthening America by
Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act
(the "Patriot Act") was signed into law. While not primarily banking
legislation, the Patriot Act contained provisions requiring financial
institutions to adopt a variety of policies aimed at preventing
money-laundering. The OCC is the primary regulator for purposes of insuring
compliance by the Bank with Patriot Act requirements and certain of those
requirements will not become effective until adoption of implementing
regulations by the OCC. Management of the Bank does not believe that compliance
with the Patriot Act and its implementing regulations has a significant impact
on the Bank's business.
ITEM 2. PROPERTIES
The Corporation owns real property at two branch locations at:
1509 Washington Street, Two Rivers, Wisconsin 54241 ("Two Rivers Branch
Office"); and
2915 Custer Street, Manitowoc, Wisconsin 54220 ("Custer Street Branch
Office").
The Bank owns real property at the location of its main office at 402 North
Eighth Street, Manitowoc, Wisconsin 54220; and at nine of its branch locations
at:
106 South Packer Drive, Francis Creek, Wisconsin 54214 ("Francis Creek
Branch Office");
109 South Fourth Avenue, St. Nazianz, Wisconsin 54232 ("St. Nazianz Branch
Office");
110 Baugniet Street, Mishicot, Wisconsin 54228 ("Mishicot Branch Office");
108 Fremont Street, Kiel, Wisconsin 53042 ("Kiel Branch Office");
5724 CTH U, Newton, Wisconsin 53063 ("Newton Branch Office");
2210 Calumet Drive, New Holstein, Wisconsin 53061 ("New Holstein Branch
Office");
2323 Eastern Avenue, Plymouth, Wisconsin 53073 ("Plymouth East Branch
Office");
300 East Mill Street, Plymouth, Wisconsin 53073 ("Plymouth West Branch
Office"); and
2747 Manitowoc Road, Green Bay, Wisconsin 54311 ("Bellevue Branch
Office").
The Bank leases real property at two branch locations:
2865 South Ridge Road, Green Bay, Wisconsin, 54304 ("Ashwaubenon Branch
Office").
4712 Expo Drive, Manitowoc, Wisconsin, 54220 ("Expo Branch Office").
Insurance Center of Manitowoc, Inc. owns real property located at:
4712 Expo Drive, Manitowoc, Wisconsin 54220 ("Insurance Center of
Manitowoc, Inc. Office").
Insurance Center of Manitowoc, Inc. leases real property at:
425 South Adams Street, Green Bay, Wisconsin, 54301 ("Gary G. Vincent &
Associates, Inc. Office").
There are no encumbrances on any of these properties.
ITEM 3. LEGAL PROCEEDINGS
The Corporation is involved in various legal actions arising in the normal
course of its business. While the ultimate outcome of these various legal
proceedings cannot be predicted with certainty, it is the opinion of management
and through consultation with legal counsel that the resolution of these legal
actions will not have a material effect on the Corporation's consolidated
financial condition or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to security holders for a vote during the fourth
quarter of 2004.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED SHAREHOLDER MATTERS, AND
ISSUER PURCHASES OF EQUITY SECURITIES
MARKET INFORMATION
There is no established public trading market for the Corporation's common stock
("Shares"). Accordingly, there is no comprehensive record of trades or the
prices of any such trades. The following tables reflect stock prices for Shares
to the extent such information is made known and available to management of the
Corporation, and the dividends declared with respect thereto during the
preceding two years.
2004
- -------------------------------------------------------------------------
1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
High Low High Low High Low High Low
- ------- ------- ------- ------- ------- ------- ------- -------
$ 15.50 $ 14.05 $ 16.25 $ 14.90 $ 16.00 $ 15.00 $ 16.00 $ 15.10
2003
- -------------------------------------------------------------------------
1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
High Low High Low High Low High Low
- ------- ------- ------- ------- ------- ------- ------- -------
$ 14.50 $ 14.50 $ 15.75 $ 14.50 $ 15.50 $ 14.50 $ 16.00 $ 14.00
CASH DIVIDENDS
2004
- --------------------------------------------------------------
1st Quarter 2nd Quarter 3rd Quarter 4th Quarter Total
- ----------- ----------- ----------- ----------- -------
$ 0.055 $ 0.055 $ 0.055 $ 0.065 $ 0.230
2003
- --------------------------------------------------------------
1st Quarter 2nd Quarter 3rd Quarter 4th Quarter Total
- ----------- ----------- ----------- ----------- -------
$ 0.050 $ 0.050 $ 0.050 $ 0.060 $ 0.210
HOLDERS
As of February 28, 2005, there were approximately 665 holders of record of the
Corporation's Shares.
ISSUER PURCHASES OF EQUITY SECURITIES
None
DIVIDENDS
The Corporation declared and paid cash dividends totaling $0.230 per share or
$1.6 million during fiscal 2004, and $0.210 per share or $1.5 million during
fiscal 2003. The Corporation currently expects that comparable cash dividends
will continue in the future.
Dividends may be paid to the holders of the Corporation's shares, when, as, and
if declared by the Corporation's Board of Directors, subject to the restrictions
imposed by Wisconsin law. The only statutory limitation applicable to the
Corporation is that dividends may not be paid if the Corporation is insolvent or
if the dividend would cause the Corporation to become insolvent. There are no
contractual restrictions that currently limit the Corporation's ability to pay
dividends or that the Corporation reasonably believes are likely to limit
materially the future payment of dividends on the Corporation's shares.
Currently, its only source of income is from the dividends paid by the Bank to
the Corporation. Therefore, the dividend restrictions applicable to national
banks will impact the Corporation's ability to pay dividends.
Under the National Bank Act, dividends may be paid only out of retained earnings
as defined in the statute. The approval of the OCC is required if the dividends
for any year exceed the net profits, as defined, for that year plus the retained
net profits for the preceding two years. In addition, unless a national bank's
capital surplus equals or exceeds the stated capital for its common stock, no
dividends may be declared unless the bank makes transfers from retained earnings
to capital surplus.
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data should be read in conjunction with the
Corporation's Consolidated Financial Statements and the related notes and with
the Corporation's Management's Discussion and Analysis of Financial Condition
and Results of Operations, provided elsewhere herein. In thousands, except per
share amounts.
FOR THE YEAR ENDED DECEMBER 31, 2004 2003 2002 2001 2000
---------- ---------- ---------- ---------- ----------
Interest income $ 28,042 $ 27,189 $ 30,811 $ 35,421 $ 34,979
Interest expense 8,796 9,683 11,978 17,982 18,995
Net interest income 19,246 17,506 18,833 17,439 15,984
Provision for loan losses 450 1,250 1,950 3,000 1,065
Net interest income after provision
for loan losses 18,796 16,256 16,883 14,439 14,919
Other income 6,494 7,887 6,585 5,344 2,711
Other expense 14,982 14,433 14,542 13,455 11,428
Net income 7,902 7,629 7,089 5,405 5,301
Per Share Data:*
Net income - basic and diluted $ 1.140 $ 1.100 $ 1.020 $ 0.780 $ 0.760
Cash dividends declared 0.230 0.210 0.183 0.150 0.140
Book value 9.500 8.680 7.820 6.700 5.980
Weighted average shares outstanding 6,937,268 6,937,268 6,937,268 6,937,268 6,937,268
AT YEAR ENDED DECEMBER 31, 2004 2003 2002 2001 2000
---------- ---------- ---------- ---------- ----------
Total assets $ 622,175 $ 581,953 $ 565,810 $ 527,304 $ 495,410
Loans 386,515 371,125 344,103 327,440 326,571
Allowance for loan losses 3,824 3,999 3,384 2,737 3,824
Investment securities 156,669 138,275 135,747 126,754 114,375
Deposits 445,786 428,284 416,099 394,092 394,601
Repurchase Agreements 61,620 55,359 50,884 33,108 29,952
Borrowed funds 42,280 31,910 38,138 47,179 23,000
Shareholders' equity 65,873 60,223 54,284 46,489 41,461
AVERAGE BALANCES
Assets $ 598,770 $ 564,735 $ 534,622 $ 505,518 $ 472,285
Deposits 431,459 415,926 387,953 384,856 373,035
Shareholders' equity 62,969 57,189 50,750 44,763 37,455
FINANCIAL RATIOS
Return on average assets 1.32% 1.35% 1.33% 1.07% 1.12%
Return on average equity 12.55% 13.34% 13.97% 12.07% 14.15%
Average equity to average assets 10.52% 10.13% 9.49% 8.85% 7.93%
Dividend payout ratio 20.18% 19.09% 17.86% 19.26% 18.32%
* Per share data for 2000 through 2002 is restated to reflect the two-for-one
stock splits effective June 30, 2000 and October 18, 2002.
SUMMARY QUARTERLY FINANCIAL INFORMATION
In thousands, except per share amounts
Three Months Ended,
2004 March 31 June 30 September 30 December 31
- ---- -------- ------- ------------ -----------
Selected Operations Data:
Interest income $ 6,656 $ 6,747 $ 7,251 $ 7,388
Interest expense 2,092 2,100 2,244 2,360
-------- ------- ------------ -----------
Net interest income 4,564 4,647 5,007 5,028
Provision for loan losses 100 100 150 100
Other income 2,053 1,261 1,705 1,475
Other expenses 3,729 3,535 3,768 3,950
-------- ------- ------------ -----------
Income before income taxes 2,788 2,273 2,794 2,453
Provision for income taxes 641 450 769 546
-------- ------- ------------ -----------
Net income $ 2,147 $ 1,823 $ 2,025 $ 1,907
Per Share Data:
Net income (Basic and Diluted) $ 0.31 $ 0.26 $ 0.29 $ 0.28
Three Months Ended,
March 31 June 30 September 30 December 31
-------- ------- ------------ -----------
2003
- ----
Selected Operations Data:
Interest income $ 7,135 $ 6,791 $ 6,591 $ 6,672
Interest expense 2,667 2,533 2,294 2,189
-------- ------- ------------ -----------
Net interest income 4,468 4,258 4,297 4,483
Provision for loan losses 200 450 300 300
Other income 1,886 2,093 2,342 1,566
Other expenses 3,692 3,419 3,703 3,619
-------- ------- ------------ -----------
Income before income taxes 2,462 2,482 2,636 2,130
Provision for income taxes 561 532 595 393
-------- ------- ------------ -----------
Net income $ 1,901 $ 1,950 $ 2,041 $ 1,737
Per Share Data:
Net income (Basic and Diluted) $ 0.27 $ 0.28 $ 0.29 $ 0.26
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The discussion and analysis in this section should be read in conjunction with
Item 8, Financial Statements and Supplemental Data as well as with the selected
financial data found elsewhere in this report.
Critical Accounting Policies
In preparing the consolidated financial statements, management is required to
make estimates and assumptions that affect the reported amounts of assets and
liabilities as of the date of the balance sheet and revenues and expenses for
the period. Actual results could differ significantly from those estimates.
Estimates that are particularly susceptible to significant change include the
determination of the allowance for loan losses and mortgage servicing rights
valuation.
The consolidated financial statements of the Corporation are prepared in
conformity with accounting principles generally accepted in the United States of
America and follow general practices within the industries in which it operates.
This preparation requires management to make estimates, assumptions, and
judgments that affect the amounts reported in the financial statements and
accompanying notes. These estimates, assumptions, and judgments are based on
information available as of the date of the financial statements; accordingly,
as this information changes, actual results could differ from the estimates,
assumptions, and judgments reflected in the financial statements. Certain
policies inherently have a greater reliance on the use of estimates, assumptions
and judgments and, as such, have a greater possibility of producing results that
could be materially different than originally reported. Management believes the
following policies are both important to the portrayal of the Corporation's
financial condition and results and require subjective or complex judgments and,
therefore, management considers the following to be critical accounting
policies.
Allowance for Loan Losses. Management's evaluation process used to determine the
adequacy of the allowance for loan losses is subject to the use of estimates,
assumptions, and judgments including management's ongoing review and grading of
the loan portfolio, consideration of past loan loss experience, trends in past
due and nonperforming loans, risk characteristics of the various classifications
of loans, existing economic conditions, the fair value of underlying collateral,
and other qualitative and quantitative factors which could affect probable
credit losses. Because current economic conditions can change and future events
are inherently difficult to predict, the anticipated amount of estimated loan
losses, and therefore the adequacy of the allowance, could change significantly.
As an integral part of their examination process, various regulatory agencies
also review the allowance for loan losses. Such agencies may require that
certain loan balances be charged off when their credit evaluations differ from
those of management, based on their judgments about information available to
them at the time of their examination. The Corporation believes the allowance
for loan losses is adequate and properly recorded in the financial statements.
See section "Allowance for Loan Losses."
Mortgage Servicing Rights Valuation. The fair value of the Corporation's
mortgage servicing rights asset is important to the presentation of the
consolidated financial statements in that mortgage servicing rights are subject
to a fair value-based impairment standard. Mortgage servicing rights do not
trade in an active open market with readily observable prices. As such, like
other participants in the mortgage banking business, the Corporation relies on
an internal estimated cash flow model to establish the fair value of its
mortgage servicing rights. While the Corporation believes that the values
produced by its internal model are indicative of the fair value of its mortgage
servicing rights portfolio, these values can change significantly depending upon
the then current interest rate environment, estimated prepayment speeds of the
underlying mortgages serviced, and other economic conditions. The proceeds that
might be received should the Corporation actually consider a sale of the
mortgage servicing rights portfolio could differ from the amounts reported at
any point in time. The Corporation believes the mortgage servicing rights asset
is properly recorded in the financial statements.
For additional information concerning critical accounting policies, see Notes to
Consolidated Financial Statements, "Note 1, Summary of Significant Accounting
Policies".
Results of Operations
INCOME STATEMENT
The Corporation recorded net income of $7.9 million for the year ended December
31, 2004, an increase of 3.9% over the $7.6 million earned in 2003. These
amounts represented returns on average assets of 1.32% for 2004 and 1.35% for
2003. Returns on average equity were 12.55% for 2004 and 13.34% for 2003.
Earnings per share in 2004 (basic and diluted) were $1.14, an increase of 3.6%
over 2003 earnings per share of $1.10.
Interest income increased $0.8 million, from $27.2 million in 2003 to $28.0
million in 2004. Interest expense decreased from $9.7 million in 2003 to $8.8
million in 2004. Interest rates were relatively stable and historically low
during 2003 and the first half of 2004. As a result, net interest income
increased $1.7 million in 2004. There were five interest rate increases of 25
basis points each during the second half of 2004. Interest rates on deposits
increased at a slower rate than those on securities which contributed to the
increase in the net interest margin.
Other income decreased $1.4 million in 2004, from $7.9 million in 2003 to $6.5
million in 2004. Notably lower revenue from significantly lower refinancing
activity occurred throughout the industry. As a result, service charges, loan
servicing income and gain on sales of mortgage loans sold to the secondary
market, accounted for the major decreases in other income. Increases occurred in
Insurance Center commissions and other miscellaneous income, a result of
increased volume and contingency commission income.
Other expense increased $0.6 million from $14.4 million in 2003 to $15.0 million
in 2004. Increases in employee compensation and outside service fees
(Sarbanes-Oxley internal control documentation requirements) were mainly
responsible for the difference.
BALANCE SHEET
Total assets at December 31, 2004 increased $40.2 million from $582.0 million in
2003 to $622.2 million in 2004. Loans were $386.5 million at December 31, 2004,
an increase of $15.4 million or 4.1% over December 31, 2003. Significant
increases in loans were as follows: Commercial loans increased $5.2 million and
residential real estate loans increased $10.4 million.
The allowance for loan losses decreased to $3.8 million at December 31, 2004
from $4.0 million at December 31, 2003. The ratio of allowance for loan losses
to total loans was 0.99% for 2004 and 1.08% for 2003. Non-performing loans were
$3.1 million, representing 0.79% of total loans at year end 2004, compared to
$3.3 million or 0.88% of total loans last year. The decrease in non-performing
loans came primarily from the commercial loan sector of the Bank's loan
portfolio.
Deposits increased $17.5 million, from $428.3 million at December 31, 2003 to
$445.8 million at December 31, 2004. The bank continues to experience strong
competition from other commercial banks, credit unions, the stock market, and
mutual funds. There are no predetermined divisions in the asset/liability policy
for the mix of deposits. Repurchase agreements increased $6.2 million or 11.3%
over 2003 due to increased deposits by municipalities at year end as a result of
tax collections. Borrowed funds increased $10.4 million to $42.3 million at
December 31, 2004 from $31.9 million at December 31, 2003.
Results of Operations Overview for fiscal years 2004, 2003 and 2002
The Corporation reported $7.9 million in net income for 2004 or $1.14 per share
compared to 2003 net income of $7.6 million or $1.10 per share, and $7.1 million
or $1.02 per share for 2002. Earnings for the year represent a record level of
performance for the Corporation, exceeding the previous record of $7.6 million
achieved in 2003. The improvement was primarily attributed to net interest
income. Return on average assets was 1.32%, 1.35% and 1.33% in 2004, 2003 and
2002, respectively. Return on average equity was 12.55% for 2004, 13.34% for
2003, and 13.97% for 2002.
Net Interest Income, Interest Rate Spread, and Net Interest Margin
Management and the Board of Directors of the Bank monitor interest rates on a
regular basis to assess the Bank's competitive position and to maintain a
reasonable and profitable interest rate spread. The Bank also considers the
maturity distribution of loans, investments, and deposits and its effect on net
interest income as interest rates rise and fall over time.
Tables 1 and 2 do not include financial data for the Corporation as they include
only Bank financial information. In Table 1, nonaccrual loans have been included
in the average balances, loan fees are included in interest income and the yield
on tax exempt loans and securities is computed on a tax-equivalent basis using a
tax rate of 34%.
Table 1 provides average balances of earning assets and interest-bearing
liabilities, the associated interest income and expense and the corresponding
interest rates earned and paid. Net interest income, interest rate spread and
net interest margin on a tax-equivalent basis are shown for the three years
ended December 31, 2004, 2003, and 2002, respectively.
Net interest income is the principal source of earnings for a banking company.
It represents the differences between interest and fees earned on the loan and
investment portfolios and interest-bearing deposits offset by the interest paid
on deposits and borrowings. The amount of net interest income is affected by
changes in interest rates and by the amount and composition of earning assets
and interest-bearing liabilities. Interest rates fell during 2003 and 2002, but
improved slightly during 2004. Net interest income (on a tax equivalent basis)
for 2004 increased by $2.8 million or 14.8% compared to the year ended December
31, 2003, while 2003 net interest income decreased by $1.3 million or 6.2% from
the previous year ended December 31, 2002. (See Tables 1 and 2)
Interest rate spread and net interest margin are utilized to measure and explain
changes in net interest income. Interest rate spread is the difference between
the average yield on interest earning assets and the average rate paid on
interest bearing liabilities. Interest rate spread for the years ended December
31, 2004, 2003, and 2002 was 3.62%, 3.28%, and 3.68%, respectively. Net interest
margin is calculated as tax equivalent net interest income divided by average
earning assets and represents the Bank's net yield on its earning assets. The
net interest margin exceeds the interest rate spread because non-interest
bearing sources of funds, primarily demand deposits and shareholder's equity,
also support earning assets. For 2004, the net interest margin was 3.96%
compared to 3.66% in 2003. The net interest margin for 2002 was 4.12%. These
changes are the result of repricing and volume changes as previously discussed
and illustrated in Table 2 "Rate and Volume Variance Analysis Based on Average
Balances."
As shown in the rate/volume analysis in Table 2, changes in the rates in 2004
resulted in a $1.2 million increase in taxable equivalent net interest income.
Increases in volume and changes in the mix of both earning assets and
interest-bearing liabilities added $1.6 million for a combined increase of $2.8
million in taxable equivalent net interest income. Rate changes on
interest-bearing liabilities lowered interest expense by $1.4 million, while
rate changes on earning assets decreased interest income by $0.2 million.
For 2004, the cost of interest-bearing liabilities decreased 30 basis points to
1.93% aided by the low interest rate environment. Decreases occurred in the CD
and IRA deposit category (a decline of 46 basis points), repurchase agreements
(a decline of 34 basis points) and borrowings (a decline of 114 basis points).
The yield on earning assets increased 3 basis points to 5.54% for 2004. The
average loan yield was 5.90%. The lower rate environment for new originations,
competitive pricing pressure and refinancing contributed to the downward trend
in loan yields. The yield on investment securities, however, was up 27 basis
points to 5.14%. From a volume perspective, earning assets contributed $2.1
million to taxable equivalent net interest income while interest-bearing
liabilities cost $0.5 million, netting a $1.6 million increase to taxable
equivalent net interest income.
Average earning assets were $554.7 million in 2004, an increase of $31.8 million
from 2003. Loans increased $25.0 million or 7.1% over 2003. Securities increased
$18.1 million or 12.8% over 2003.
Average interest-bearing liabilities were $456.7 million in 2004, an increase of
$22.2 million from 2003. Certificates of deposit and IRA deposits along with
repurchase agreements and borrowings accounted for a $16.6 million increase on
average over 2003.
Table 1 displays the average balances and average rates paid on all major
deposit classifications for 2004, 2003, and 2002.
AVERAGE BALANCES, YIELD AND RATES
(In thousands)
TABLE 1
For the year ended For the year ended For the year ended
December 31, 2004 December 31, 2003 December 31, 2002
----------------------------- --------------------------- --------------------------
Interest Average Interest Average Interest Average
Average Income/ Yield/ Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate Balance Expense Rate
--------- -------- ------- -------- -------- ------- -------- -------- -------
ASSETS:
Interest earning assets:
Federal funds sold $ 16,511 $ 221 1.34% $ 27,751 $ 304 1.10% $ 20,749 $ 336 1.62%
Investment securities:
US Treasury securities and obligations
of US government agencies $ 72,968 $ 2,377 3.26% $ 60,339 $ 1,478 2.45% $ 65,727 $ 2,973 4.52%
Tax exempt obligations of States
and political subdivisions $ 76,406 $ 5,104 6.68% $ 70,474 $ 4,780 6.78% $ 64,163 $ 4,587 7.15%
All other investment securities $ 10,530 $ 734 6.97% $ 11,003 $ 645 5.86% $ 8,525 $ 623 7.31%
--------- -------- -------- -------- -------- --------
Total investment securities $ 159,904 $ 8,215 5.14% $141,816 $ 6,903 4.87% $138,415 $ 8,183 5.91%
Loans net of unearned income:
Commercial loans $ 129,139 $ 7,832 6.06% $ 96,233 $ 7,087 7.36% $ 98,948 $ 7,713 7.80%
Mortgage loans $ 228,693 $ 12,438 5.44% $234,759 $ 12,260 5.22% $213,685 $ 13,670 6.40%
Installment loans $ 15,663 $ 1,257 8.03% $ 16,343 $ 1,463 8.95% $ 17,273 $ 1,692 9.80%
Other loans $ 4,834 $ 794 16.43% $ 5,977 $ 798 13.35% $ 5,752 $ 772 13.42%
--------- -------- -------- -------- -------- --------
Total loans $ 378,329 $ 22,321 5.90% $353,312 $ 21,608 6.12% $335,658 $ 23,847 7.10%
TOTAL INTEREST EARNING ASSETS $ 554,744 $ 30,757 5.54% $522,879 $ 28,815 5.51% $494,822 $ 32,366 6.54%
Cash and due from banks $ 13,379 $ 12,904 $ 12,668
Other assets $ 34,549 $ 32,706 $ 28,918
Allowance for loan and lease losses $ (3,902) $ (3,754) $ (2,851)
--------- -------- --------
TOTAL ASSETS $ 598,770 $564,735 $533,557
========= ======== ========
LIABILITIES:
Interest bearing liabilities:
Savings deposits $ 46,984 $ 106 0.23% $ 43,935 $ 76 0.17% $ 42,325 $ 131 0.31%
Market Plus accounts $ 69,710 $ 634 0.91% $ 68,345 $ 553 0.81% $ 63,295 $ 803 1.27%
Super NOW accounts $ 30,654 $ 255 0.83% $ 30,084 $ 276 0.92% $ 25,565 $ 329 1.29%
Money market deposit accounts $ 18,186 $ 185 1.02% $ 17,535 $ 152 0.87% $ 18,606 $ 237 1.27%
Certificates of deposit and IRA deposits $ 193,802 $ 5,253 2.71% $189,826 $ 6,019 3.17% $179,883 $ 7,385 4.11%
Repurchase agreements $ 56,101 $ 1,202 2.14% $ 50,359 $ 1,250 2.48% $ 47,057 $ 1,310 2.78%
Federal funds purchased $ 10 $ - 0.00% $ - $ - 0.00% $ 6 $ 0 2.35%
Borrowings $ 41,279 $ 1,161 2.81% $ 34,370 $ 1,357 3.95% $ 42,170 $ 1,783 4.23%
--------- -------- -------- -------- -------- --------
TOTAL INTEREST BEARING LIABILITIES $ 456,726 $ 8,796 1.93% $434,454 $ 9,683 2.23% $418,907 $ 11,978 2.86%
Demand Deposits $ 72,123 $ 66,201 $ 58,279
Other Liabilities $ 6,952 $ 6,891 $ 6,663
--------- -------- --------
Total Liabilities $ 535,801 $507,546 $483,849
Shareholders' Equity $ 62,969 $ 57,189 $ 49,708
--------- -------- --------
TOTAL LIABILITIES & SHAREHOLDERS' EQUITY $ 598,770 $564,735 $533,557
========= ======== ========
Recap:
Interest Income $ 30,757 5.54% $ 28,815 5.51% $ 32,366 6.54%
Interest Expense $ 8,796 1.93% $ 9,683 2.23% $ 11,978 2.86%
-------- -------- --------
Net Interest Income/Spread $ 21,961 3.62% $ 19,132 3.28% $ 20,388 3.68%
Contribution of Non-Interest-bearing Funds 0.34% 0.38% 0.44%
Net Interest Margin 3.96% 3.66% 4.12%
Ratio of Average Interest Earning
Assets to Average Interest-Bearing
Liabilities 121.46% 120.35% 118.12%
Net interest margin is calculated as tax equivalent net interest income divided
by average earning assets and represents the Bank's net yield on its earning
assets. The tax equivalent adjustment was calculated using the statutory federal
income tax rate of 34%.
The following table sets forth the effects of changing rates and volumes
on net interest income of the Corporation for the periods indicated.
Information is provided with respect to (1) effects on net interest income
attributable to changes in volume (changes in volume multiplied by prior
rate); (2) effects on net interest income attributable to changes in rate
(changes in rate multiplied by prior volume); and (3) the net change in
interest income. The apportionment of changes resulting from the combined
effect of both volume and rate was based on the separately determined
volume and rate changes.
Table 2
RATE AND VOLUME VARIANCE ANALYSIS
BASED ON AVERAGE BALANCES
(In thousands)
2004 COMPARED TO 2003 2003 COMPARED TO 2002
--------------------- ---------------------
INCREASE(DECREASE) IN NET INTEREST INCOME INCREASE(DECREASE) IN NET INTEREST INCOME
NET DUE TO DUE TO NET DUE TO DUE TO
CHANGE RATE VOLUME CHANGE RATE VOLUME
--------- --------- --------- ---------- --------- --------
Interest earning assets
Federal funds sold $ (83) $ 58 $ (141) $ (32) $ (127) $ 95
Investment securities:
US Treasury securities and
obligations of US government agencies $ 899 $ 550 $ 349 $ (1,495) $ (1,268) $ (227)
Tax exempt obligations of States
and political subdivisions $ 324 $ (73) $ 397 $ 193 $ (243) $ 436
All other investment securities $ 89 $ 118 $ (29) $ 22 $ (138) $ 160
--------- --------- --------- ---------- --------- --------
Total investment securities $ 1,312 $ 595 $ 717 $ (1,280) $ (1,649) $ 369
Loans net of unearned income:
Commercial loans $ 745 $ (1,396) $ 2,141 $ (626) $ (418) $ (208)
Mortgage loans $ 178 $ 500 $ (322) $ (1,410) $ (2,672) $ 1,262
Installment loans $ (206) $ (147) $ (59) $ (229) $ (141) $ (88)
Other loans $ (4) $ 165 $ (169) $ 26 $ (4) $ 30
--------- --------- --------- ---------- --------- --------
Total loans $ 713 $ (879) $ 1,592 $ (2,239) $ (3,235) $ 996
TOTAL INTEREST EARNING ASSETS $ 1,942 $ (226) $ 2,168 $ (3,551) $ (5,011) $ 1,460
Interest bearing liabilities:
Savings deposits $ 30 $ 24 $ 6 $ (55) $ (60) $ 5
Market Plus accounts $ 81 $ 70 $ 11 $ (250) $ (310) $ 60
Super NOW accounts $ (21) $ (26) $ 5 $ (53) $ (105) $ 52
Money market deposit accounts $ 33 $ 27 $ 6 $ (85) $ (72) $ (13)
Certificates of deposit and IRA deposits $ (766) $ (890) $ 124 $ (1,366) $ (1,756) $ 390
Repurchase agreements $ (48) $ (182) $ 134 $ (60) $ (148) $ 88
Federal funds purchased $ - $ - $ - $ (0) $ (0) $ (0)
Borrowings $ (196) $ (437) $ 241 $ (426) $ (112) $ (314)
--------- --------- --------- ---------- --------- --------
TOTAL INTEREST BEARING LIABILITIES $ (887) $ (1,413) $ 526 $ (2,295) $ (2,563) $ 268
Net Change in Net Interest Income $ 2,829 $ 1,187 $ 1,642 $ (1,256) $ (2,448) $ 1,192
Provision and Allowance for Loan Losses
For the year ended December 31, 2004, the Bank recorded net charge-offs of
$625,000 compared to net charge- offs of $635,000 in 2003 and $1,303,000 in
2002. Internal loan review, in particular, works toward identifying problem
credits and achieving timely recognition of potential and actual losses within
the loan portfolio.
Gross charge-offs amounted to $795,000 in 2004, $749,000 in 2003, and $1,578,000
in 2002, the majority of which were commercial loans. Loans charged off are
subject to ongoing review and effort is made to maximize recovery of principal,
interest and related expenses. Recoveries were $170,000 in 2004, $114,000 in
2003, and $275,000 in 2002.
The methodology used in determining the allowance for loan losses is based on
guidelines provided by the Financial Accounting Standards Board. The allowance
for loan losses is maintained at a level believed adequate by management to
absorb estimated loan losses. There are several factors that are included in the
analysis of the adequacy of the allowance for loan losses. Management considers
loan volume trends, levels and trends in delinquencies and nonaccruals, current
problem credits, national and local economic trends and conditions,
concentrations of credit by industry, current and historical levels of
charge-offs, the experience and ability of the lending staff, and other
miscellaneous factors.
The factor of loan volume trends is based on actual lending activity. This
factor is for estimated losses that are believed to be inherently part of the
loan portfolio but that have not yet been identified as specific problem
credits. The current problem credits factor includes the exposure believed to
exist for specifically identified problem loans determined on a loan-by-loan
basis. Specific problem loans are subject to classification according to one of
two categories: "Substandard" or "Doubtful". An institution is required to
develop its own program to classify its assets on a regular basis and to set
aside appropriate loss reserves on the basis of such classification. The
allocation of the allowance among the various loan categories is based on the
average proportion within those categories using a three year historical loss
percentage. The unallocated portion of the allowance consists of the other
factors included in the analysis because those factors cannot be tied to
specific loans or loan categories.
The allocation of the allowance for loan losses is shown in the following table.
Table 3
ALLOCATION OF ALLOWANCE FOR LOAN LOSSES
(IN THOUSANDS)
DECEMBER 31
% Of % Of % Of % Of % Of
Loans In Loans In Loans In Loans In Loans In
Category Category Category Category Category
To Total To Total To Total To Total To Total
2004 Loans 2003 Loans 2002 Loans 2001 Loans 2000 Loans
------ -------- ------ -------- ------ -------- ------ -------- ------- --------
Specific Problem Loans $1,610 $2,262 $1,974 $ 843 $ 625
Loan Type Allocation:
Commercial & Agricultural 698 30.1% 950 29.4% 1,006 29.5% 1,476 26.4% 2,688 29.1%
Commercial Real Estate 112 28.7% 87 30.0% 31 30.2% 103 26.0% 436 23.4%
Residential Real Estate 110 36.1% 53 34.8% 13 36.7% 19 40.1% 25 40.3%
Consumer 182 5.1% 221 5.8% 77 3.6% 12 7.5% 36 7.2%
------ ------ ------ ------ -------
Non-Specific Problem Loans 1,102 1,311 1,127 1,610 3,185
Unallocated 1,112 426 283 284 14
------ ------ ------ ------ -------
Total $3,824 $3,999 $3,384 $2,737 $ 3,824
====== ====== ====== ====== =======
Local economic concerns continue to affect the bank's customers. These concerns
are reflected in the allocation of allowance for loan losses. An increase in
local unemployment rates since December 31, 2002 was taken into consideration
when determining the increase in the unallocated portion of the allowance. The
unallocated allowance for loan losses is based on historical charge-off rates
for various loan categories and is applied to loans outstanding at the end of
the quarter.
The allocation and total for the allowance for loan losses is not to be
interpreted as a single year's exposure for loss nor the loss for any specified
time period.
Table 4
ANALYSIS OF THE ALLOWANCE FOR LOAN LOSSES
(IN THOUSANDS)
FOR THE YEARS ENDED DECEMBER 31,
2004 2003 2002 2001 2000
------- ------- -------- --------- -------
Balance at beginning of period $ 3,999 $ 3,384 $ 2,737 $ 3,824 $ 3,700
Charge-offs:
Commercial Real Estate $ 39 $ 97 $ 0 $ 0 $ 83
Residential Real Estate 112 179 272 22 2
Commercial & Agricultural 468 240 1,095 3,872 668
Consumer 176 233 211 240 243
------- ------- -------- --------- -------
$ 795 $ 749 $1,578 $4,134 $ 996
======= ======= ======== ========= =======
Recoveries:
Commercial Real Estate $ 3 $ 29 $ 8 $ 0 $ 9
Residential Real Estate 23 1 17 2 2
Commercial & Agricultural 111 26 211 21 27
Consumer 33 58 39 24 17
------- ------- -------- --------- -------
$ 170 $ 114 $ 275 $ 47 $ 55
======= ======= ======== ========= =======
Net charge-offs 625 635 1,303 4,087 941
Provision for loan losses 450 1,250 1,950 3,000 1,065
------- ------- -------- --------- -------
Balance at end of period $ 3,824 $3,999 $ 3,384 $ 2,737 $ 3,824
======= ======= ======== ========= =======
Ratio of net charge-offs during
period to average loans
outstanding during period 0.17% 0.18% 0.39% 1.23% 0.30%
Ratio of allowance for loan losses
to total loans 0.99% 1.08% 0.98% 0.84% 1.17%
The allowance for loan losses of $3,824,000 as of December 31, 2004 amounted to
0.99% of the outstanding loan portfolio. As of December 31, 2003, the $3,999,000
allowance for loan losses was 1.08% of gross loans and the allowance for loan
losses of $3,384,000 as of December 31, 2002 represented 0.98% of gross loans.
Net charge-offs for the year ended December 31, 2004 were greater than the
provision for loan losses for 2004. This accounts for the decrease in the
allowance for loan losses from $3,999,000 at December 31, 2003 to $3,824,000 at
December 31, 2004. Analysis by internal loan review supports the adequacy of the
allowance. Management has determined that the allowance for loan losses is
adequate to absorb probable loan losses as of December 31, 2004. See Note 3 in
the Consolidated Financial Statements.
Other Income
Other income decreased $1.4 million, or 17.7%, from 2003 to 2004. Reduced FNMA
financing in 2004 resulted in dramatic decreases in the gain on sales of
mortgage loans to the secondary market and the corresponding servicing income.
The dollar volume decreased from $132.7 million to $49.7 million. The real
estate premiums and discounts on FNMA loans sold in the secondary market
decreased by $1.6 million during 2004 from $1.8 million in 2003 to $0.2 million
in 2004.
The Insurance Center experienced growth in volume during 2004, contributing to
increased commission income. Other miscellaneous income increased as a result of
contingency commission income for lower than expected insurance claims.
Other income increased $1.3 million, or 19.8%, from 2002 to 2003. The increased
volume of mortgage loans and refinancings processed and sold to the FNMA
secondary market led to increased gains on loans sold and servicing fees
associated with them.
Other Expense
Other expense increased by $0.6 million, or 4.2%, from 2003 to 2004. Increases
in employee compensation and Sarbanes-Oxley fees were partially offset by cost
savings in the operating expenses, specifically telephone and printing costs.
Other expense decreased by $109,000, or 0.8%, from 2002 to 2003.
Income Taxes
The effective tax rates for the Corporation were 23.34%, 21.40%, and 20.58%, for
2004, 2003, and 2002, respectively. The increase in the effective tax rate for
2004 is a result of higher Wisconsin state taxes paid in 2004. See Note 12 in
the Consolidated Financial Statements and Item 1, "State Taxation" for
additional information.
Securities
Securities available for sale are held for an indefinite period of time and may
be sold in response to changing market and interest rate conditions as part of
the asset/liability management strategy. Securities available for sale are
carried at fair value, with unrealized holding gains and losses, net of the
related tax effect, reported as a separate component of accumulated other
comprehensive income. Securities held to maturity are those that management has
both the positive intent and ability to hold to maturity, and are reported at
amortized cost. The Bank does not own trading or held to maturity securities.
Total securities were $156.7 million, $138.3 million, and $135.7 million as of
December 31, 2004, 2003, and 2002, respectively. The higher level of investments
in securities resulted primarily from the increase in available funds derived
from increases in deposits, securities sold under repurchase agreements, and
borrowings.
The Bank manages its investment portfolios within policies that seek to achieve
desired levels of liquidity, manage interest rate sensitivity risk, meet
earnings objectives, and provide required collateral support for deposit
activities. The Bank had no concentrations of securities from any single issues
that exceeded 10% of shareholders' equity. Table 5 exhibits the distribution, by
type, of the investment portfolio as of December 31, for the years indicated.
Table 5
SECURITIES AVAILABLE FOR SALE
(IN THOUSANDS)
December 31, 2004 December 31, 2003 December 31, 2002
----------------- ----------------- -----------------
U.S. Treasury securities and obligations of U.S. $ 2,974 $ 13,663 $ 16,427
Government corporations and agencies
Obligations of states and political subdivisions 80,160 70,357 50,915
Mortgage-backed securities 70,232 49,924 62,784
Corporate Notes 100 100 999
----------------- ----------------- -----------------
TOTAL AMORTIZED COST $ 153,466 $ 134,044 $ 131,125
================= ================= =================
TOTAL FAIR VALUE $ 156,669 $ 138,275 $ 135,747
================= ================= =================
The following table presents the maturity by type of the investment portfolio
for the year ended December 31, 2004.
Table 6
INVESTMENT PORTFOLIO ANALYSIS
DECEMBER 31, 2004
(IN THOUSANDS)
Mortgage-Backed
U.S. Govt Agencies Municipals Securities Corporate Notes
- --------------------------------------------------------------------------------------------------------------------------------
Avg Avg Avg Avg
Description & Book TE Book TE Book TE Book TE Total Total
Term Value Yield Value Yield Value Yield Value Yield Amortized Cost Fair Value
- --------------------------------------------------------------------------------------------------------------------------------
0-12 months $ - $ - $ 3,165 7.48% $ 10,742 3.39% $ - - $ 13,907 $ 13,924
1-5 Years - - 17,435 6.80% 59,490 3.83% - - 76,925 77,306
5-10 Years 1,939 2.49% 38,893 6.89% - - 100 7.30% 40,932 42,894
Over 10 Years 1,035 3.03% 20,667 6.61% - - - - 21,702 22,545
------- ----- -------- ----- -------- ----- ----- ----- -------------- ----------
Total $ 2,974 2.68% $ 80,160 6.82% $ 70,232 3.76% $ 100 7.30% $ 153,466 $ 156,669
======= ===== ======== ===== ======== ===== ===== ===== ============== ==========
Loan Portfolio
The Bank is actively engaged in originating loans to customers in Manitowoc,
Calumet, Sheboygan and Brown counties. The Bank has policies and procedures
designed to mitigate credit risk and to maintain the quality of the loan
portfolio. These policies include underwriting standards for new credits as well
as the continuous monitoring and reporting of asset quality and the adequacy of
the allowance for loan losses. These polices, coupled with continuous training
efforts, have provided effective checks and balances for the risk associated
with the lending process. Lending authority is based on the level of risk, size
of the loan and the experience of the lending officer.
Bank underwriting procedures are based on a process which evaluates the
management, repayment ability, collateral support, credit history, and overall
financial strength of prospective and current customers from a relationship
oriented perspective. Residential mortgage loans are predominantly underwritten
to general FNMA guidelines.
The Bank extends the following types of credit: commercial loans, agricultural
loans, real estate loans and consumer loans.
Commercial loans are often secured with first liens on accounts receivable,
inventory and/or equipment. Commercial loans generally have loan to value ratios
of 80% or less. Agricultural loans are collateralized with first liens on crops,
farm products, farm personal property and/or real estate. Agricultural loans
generally have loan to value ratios of 70% or less, except for agricultural real
estate loans which have loan to value ratios of 80% or less. Real estate loans
include commercial real estate loans and residential real estate loans. Real
estate loans are collateralized with first mortgages. Commercial real estate
loans generally have loan to value ratios of 80% or less while residential real
estate loans have loan to value ratios of 90% or less. Consumer loans include
loans to individuals for personal, family or household purposes. Consumer loans
may be secured with first lien positions or be unsecured depending upon the
credit quality. The Bank will make subordinate loans in any category if the
borrower's financial position justifies it. The Bank is not involved in credit
risk insurance.
Bank management assesses the loan portfolio mix at least annually as part of its
planning and budget process. While there are no predetermined fixed targets for
various loan types established in the loan policy, general guidelines are
established annually for new loan activity based on loan portfolio mix and
credit needs in the Bank's main markets.
The risks associated with the Bank's loan categories are as follows:
Commercial and Agricultural. Credit risk is considered moderate. Past due loans
are below industry averages. The portfolio is fairly diversified with no
significant concentrations within one industry. Agricultural loans represent
approximately 1.10% of total loans.
Real Estate. Credit risk is considered low, with delinquency ratios and
non-performing loans at low levels.
Consumer. Credit risk is considered moderate, with delinquency ratios and
non-performing loans at low levels.
Unallocated. (Table 3) The risk associated with the unallocated allowance for
loan losses is based on historical charge-off rates for various loan categories
and is applied to loans outstanding at the end of each quarter.
No loan customer exceeds the legal lending limit among the loan categories. The
Bank's legal and internal lending limit as of December 31, 2004 was $8.6
million.
Extensions of credit used predominantly for business or agricultural purposes
are classified as commercial and agricultural loans. Commercial loans include
lines of credit for seasonal requirements of businesses, short-term loans
payable within 12 months for one time specific purposes and term loans with
maturities greater than 12 months for capital assets and fixed assets which are
amortized and repaid from cash flow. Agricultural loans include short-term farm
operating loans, intermediate-term farm personal property loans and long-term
agricultural real estate loans. Agricultural real estate loans generally are
written for one to two year terms with amortizations exceeding five years.
Commercial term loans for capital assets and fixed assets and commercial real
estate loans that have maturities of more than five years are generally arranged
through government assisted financing programs such as SBA.
The increase in commercial loans and commercial real estate loans resulted
mainly from the general credit needs within the Bank's primary markets. The Bank
also made it a priority to sell residential mortgage loans to the FNMA secondary
market.
Table 7 "Summary of Loan Portfolio" presents the composition of the Bank's loan
portfolio by significant concentration.
Table 7
SUMMARY OF LOAN PORTFOLIO
(IN THOUSANDS)
LOANS OUTSTANDING AS OF DECEMBER 31,
2004 2003 2002 2001 2000
-------------------- -------------------- -------------------- -------------------- --------------------
Percent of Percent of Percent of Percent of Percent of
Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans
-------- ----------- -------- ----------- -------- ----------- -------- ----------- -------- -----------
Commercial and
Agricultural $116,145 30.05% $110,884 29.36% $101,531 29.51% $ 86,565 26.44% $ 94,886 29.06%
Commercial
Real Estate 110,972 28.71% 109,469 30.02% 104,042 30.24% 85,036 25.97% 76,478 23.42%
Residential
Real Estate 139,612 36.12% 129,212 34.82% 126,122 36.65% 131,362 40.12% 131,592 40.29%
Consumer 16,980 4.39% 18,301 4.93% 9,470 2.75% 23,213 7.08% 22,270 6.82%
Other 2,806 0.73% 3,259 0.87% 2,938 0.85% 1,264 0.39% 1,345 0.41%
-------- ------ -------- ------ -------- ----- -------- ------ -------- -------
Total $386,515 100.00% $371,125 100.00% $344,103 100.0% $327,440 100.00% $326,571 100.00%
======== ====== ======== ====== ======== ===== ======== ====== ======== ======
Table 8
MATURITIES OF LOAN PORTFOLIO
DECEMBER 31, 2004
(IN THOUSANDS)
Commercial Commercial Residential
Maturing & Agricultural Real Estate Real Estate Consumer Other Total
- -------- -------------- ----------- ----------- -------- -------- --------
0-12 months $ 95,139 $ 84,341 $ 88,005 $ 4,911 $ 1,919 $274,315
1-5 years 19,101 22,879 48,514 11,942 847 103,283
Over 5 years 1,905 3,752 3,093 127 40 8,917
-------- -------- -------- -------- -------- --------
Total $116,145 $110,972 $139,612 $ 16,980 $ 2,806 $386,515
======== ======== ======== ======== ======== ========
Maturing Fixed Rate Adjustable Rate Total
- -------- ---------- --------------- --------
0-12 months $110,010 $164,305 $274,315
1-5 years 101,422 1,861 103,283
Over 5 years 8,917 0 8,917
-------- -------- --------
Total $220,349 $166,166 $386,515
-------- ======== ========
The Bank's policy is to make the majority of its loan commitments in the market
area it serves. This tends to reduce risk because management is familiar with
the credit histories of loan applicants and has an in-depth knowledge of the
risk to which a given credit is subject. The Bank had no foreign loans in its
portfolio as of December 31, 2004.
It is the policy of the Bank to place a loan on nonaccrual status whenever there
is substantial doubt about the ability of a borrower to pay principal or
interest on any outstanding credit. Management considers such factors as payment
history, the nature and value of collateral securing the loan and the overall
economic situation of the borrower when making a nonaccrual decision. Nonaccrual
loans are closely monitored by management. A nonaccrual loan is restored to
current status when the prospects of future contractual payments are no longer
in doubt. Nonaccrual loans at December 31, 2004 and 2003 were $2.6 million and
$3.3 million, respectively. The fluctuation in the level of nonaccrual loans
over the past five years is attributed mainly to isolated credit deterioration
in a few larger account relationships. These included consumer loans, commercial
loans, agricultural loans and residential real estate loans. However, no trend
in economic, industrial, geographical or other factors could be identified to
account for the fluctuations in the level of nonaccrual loans. Accruing loans 90
days or more past due include loans that are both well secured and in the
process of collection.
Table 9
RISK ELEMENTS OF LOAN PORTFOLIO
(IN THOUSANDS)
DECEMBER 31,
2004 2003 2002 2001 2000
------ ------ ------ ------ ------